US Economy: Reeling Yes, Collapse No

Tens of millions of Americans had to be integrated back into a peacetime economy
following World War II. America and its finest companies understood the importance
of investing for their collective futures, and by the 1950's, that social contract
and the investment it provided helped launch one of the greatest booms in history,
where America's industrial might was at its peak.

In a real sense, the US became one of the richest, most prosperous nations
in history during that time. It was a creditor nation, had a powerful currency
backed by gold, and was the envy of the world. For producing the highest quality
products that were in high demand worldwide, from cars to television sets,
American workers earned the highest wages in the world; real purchasing power
that was the springboard for millions to realize their own American Dream.

By the 1970's, that had all changed. Excessive spending, a trade imbalance
that began in the late 1960's and growing indebtedness forced President Richard
Nixon to cut the dollar-gold link on August 15, 1971. The inflation genie was
out of the bottle, with the US mired in inflation induced bubbles ever since.
Inflation, naturally, increases input costs for corporations and eats away
at consumer purchasing power, putting a dent into the consumer pocketbooks
that corporations need for their very survival.

No stone was left unturned in the search for continued consumption. Exceptions
became the rule, as both parents were eventually forced out into the workplace
not only for lifestyle maintenance, but also just to make ends meet. The off
shoring of jobs and production was meant to further counter-act the forces
chipping away at purchasing power. Off shoring had the desired effect of bringing
retail prices down so that Americans could continue spending. The hollowing
out of entire industries and growing unemployment, much like an engine running
on less than its allotted cylinders, can only go unnoticed for so long.

Consequently, the steadily rising costs for life's necessities, with no commensurate
rise in real wages, meant the shortfall had to be, and was, plugged by easy
credit, which banks were only too happy to provide for a remarkably resilient "modern" US
economy. But the combination of continued off shoring, rising unemployment
and a collapsed housing market saw that modern economy hit a wall in 2008;
its resilience, built on nothing more than a foundation of perpetual bubbles,
exposed to have been as credible as a colorful late night infomercial.

That said, let's understand one thing before proceeding to discuss the tough
choices confronting the country. Despite deficit and debt troubles that began
almost 40 years ago, the US has continued to be the world's leader in innovation
and ideas, a testament to the ingenuity of American business and its long tradition
of excellence. Such traditions do not evaporate simply due to temporary trade
winds, nor can countries, mired in bubbles themselves or who attained wealth
via accidents of geography or by being a factory to the world, easily assume
them (a perfect example is the Japanese economic miracle that petered out under
the weight of its huge twin bubbles 20 years ago).

American economic leadership, despite its current travails, is here to stay
-- what we have witnessed the last few months is not only a world that knows
this, but one that apparently wants it as well, which is why, in our opinion,
the US will NOT head down the hyperinflationary road of Argentina or Zimbabwe.
That is not to say there won't be high inflation in the US in the years ahead
-- that cake has already been baked. It is why we have been advising readers
to buy gold as well as precious metal stocks, and have been critical of US
economic policies of recent years.

In the months ahead, we believe the US dollar will be "managed" down in value,
which will help bring jobs back to the US for the millions who so desperately
need them. Money printing will find its way into the stock market, as it always
does, and pull those investors afraid to be left behind back in, with rising
valuations helping to repair balance sheets. Those who can will pay down debt
this time around.

Inflation, however, is no panacea. While it will lessen the debt burdens of
the US government and certain consumers, the decline in living standards and
loss of purchasing power will hurt those Americans who will be in no position
to benefit from it. Those with little to invest but with large debt and/or
mortgage balances will continue to be squeezed, prolonging the foreclosure
crisis. In addition, unlike prior inflations, workers will be in no position
to demand salary increases. Yet the falling currency will continue to push
up costs - the worst of all worlds for the average middle-class worker!

At some point there will be a policy shift - when is not knowable given the
tremendous forces pulling and tugging from every direction. But a point is
inevitably reached where public outcries over the direction a country is going,
coincident with dangerously high inflation levels, force government's hand.
Asset prices will only deflate during that period, in the true sense
of the word "deflation," as a designed money supply contraction will reverse
the currency decline. At that point, those who managed to avoid financial ruin
will pick up assets on the cheap.

Also at that time, the US will work with its creditors and negotiate new debt
repayment terms. Given the in-your-face realities of that time, taxes and government
will have to be cut, in a big way, across the board. A more humble foreign
policy will have to be pursued, saving hundreds of billions of dollars. The
required changes will be many, and necessary to save the currency. The American
people will have to demand them.

We saw inklings of that recently with the tea parties in line with such thinking.
Fodder they might have been for certain elements we do not agree with, but
the general theme of "less government" we do agree with. The fact Americans
finally stood up and did something must have also brought smiles to the nervous
faces of our foreign creditors.

Christopher G Galakoutis is an independent investor and
commentator, who in 2002 re-directed his attention to studying the macroeconomic
issues that he believed would impact the United States, and the world, for
many years to come. He works diligently to seek out investments for his own
portfolio that align with his views, and writes about them on his website.
With a background in international tax, he also works with clients holding
foreign investments (ExpatTaxPros.com), ensuring their global income tax costs
are being minimized.